Riding Argentina’s Revival

Sep 26 | 2019

‘Dead Cow’ Could Kick-start Economy

By Simon West

They say a wise man turns chance into good fortune.

Many Argentinians would balk at describing their under-fire president in such glowing terms, but Mauricio Macri deserves at least some credit for the explosive growth at Vaca Muerta, a 30,000 square-kilometer rock formation in northern Patagonia that holds one of the world’s largest reserves of unconventional oil and gas.

Since taking office in 2015, Macri has sanctioned a series of industry-friendly legislative changes in a bid to lure investors back to the country’s upstream sector and overturn a costly energy deficit, which last year totaled US$2.3 billion.

Vaca Muerta, or “Dead Cow,” located in the prolific Neuquen Basin, is leading the revival in upstream development, accounting for about 23 percent of the country’s total natural gas production and 16 percent of total crude output.

The formation is often compared with the giant Eagle Ford shale play in southern Texas. According to the U.S. Energy Information Administration, or EIA, just 4 percent of Vaca Muerta’s acreage has entered full development.

Major Players

State-controlled energy producer YPF is the main player in the region, backed by more than 30 national and international operators. Investments over the next five years in Argentinian unconventional resources are expected to reach US$21.8 billion, with much of that heading for Vaca Muerta, according to energy consultancy Wood Mackenzie.

U.S.-based ExxonMobil is one of the latest firms to ramp up activity in the region, announcing in June plans to spud 90 wells at its 99,000-acre Bajo del Choique-La Invernada block. The project, which will include a central production facility and export infrastructure connected to pipelines and refineries, could produce up to 55,000 barrels of oil equivalent per day, or boepd, within five years.

Other heavyweights to recently commit resources to the formation include Shell, ConocoPhillips, Wintershall and Mexico-based operator Vista Oil & Gas.

Authorities in Neuquen province, where most of Vaca Muerta is located, have so far granted 36 unconventional oil and gas concessions, with another four likely to be signed off by the end of the year.

The government expects Vaca Muerta to drive Argentina’s total oil production to 1 million barrels per day, or bpd, by 2023, and boost natural gas output to 260 million cubic meters per day, or cmd, converting the country into a world energy power.

“When we started this process in 2015 we had 500 wells in Vaca Muerta. By the end of the year we will have 1,500 in development,” Neuquen Gov. Omar Gutierrez told journalists in July, shortly after awarding local firm Tecpetrol two concessions to drill the Los Toldos I Norte and Los Toldos II Este blocks.

Logistical Challenges Remain

Rapid development, however, has flagged logistical issues that the government will have to address if Vaca Muerta is to reach its full potential and match the success of the shale revolution in the U.S.

For starters, a shortage of pipelines and processing plants has thwarted efforts to export liquefied natural gas, or LNG, during Argentina’s summer months from October to April, when output exceeds domestic demand.

Conversely, during the winter months, when domestic demand soars, existing midstream capacity is unable to shift adequate gas supplies to processing plants, forcing the government to hike up LNG imports.

The three existing pipelines that ship gas out of the Neuquen Basin – Neuba I, Neuba II and Centro Oeste – are operating at full capacity, according to the energy ministry. Argentina’s lack of large-scale natural gas storage facilities means some producers, including YPF, are focusing on shale and tight oil to sustain output growth.

“Vaca Muerta players are ready to increase speed, but Argentina still needs to make improvements to accommodate that pace,” said Fernanda Pedo, upstream research analyst for Latin America at Wood Mackenzie.

The rise in production has triggered a restart of gas shipments to neighboring countries such as Brazil and Chile – supplies to the latter were suspended in 2007 amid a decline in production – while YPF announced in June it was readying its first-ever export of some 25,000 cubic meters of LNG, equivalent to 1,000 truckloads.

Opportunities for Investors

Longer-term solutions to bump up export capabilities are also taking shape.

The government opened bidding in late July for the construction of a new 1,040-kilometer natural gas pipeline from Vaca Muerta to capital city Buenos Aires. Neuba III, slated to come online in 2021, will boost gas transport capacity by 15 million cmd, and save some US$240 million in LNG imports, the energy ministry said.

The capacity of Neuba III, Argentina’s first new pipeline construction project since 1988, could be increased incrementally to 40 million cmd, depending on future demand, the ministry added.

YPF, meanwhile, is mulling the construction of a new US$5 billion LNG terminal, either at the Bahia Blanca industrial complex in Buenos Aires province, or along Chile’s Pacific Coast. The state-run giant is looking for partners to help develop the project.

According to Wood Mackenzie, a new infrastructure drive would support exports to bigger markets such as Asia. Argentinian facilities would enjoy lower shipping costs compared with their U.S. Gulf counterparts, whose ships have to navigate the Panama Canal.

“We see a great opportunity (for Argentina) in the Asian market,” Pedo said. “Those (LNG export) plans could be ready in five to six years.”

Large sections between the southern port of Bahia Blanca – the main entry point for cargoes to and from Vaca Muerta – and oil and gas installations in the Neuquen Basin are linked by poorly maintained roads that cut through arid Patagonian desert.

The lack of trucks adds to the strain, while for movers of breakbulk, high demand from Argentina’s burgeoning renewable energy industry is creating a shortage of special transport equipment, according to Sergio Vanina, regional manager at ALE Heavylift.

“This demand (for renewables) means that there is practically no oversized transport equipment available in the market. In addition, rates have gone up significantly,” Vanina said.

Authorities are mulling a US$570 million overhaul of the 700-kilometer Norpatagonico freight railroad linking Vaca Muerta to Bahia Blanca, a project that would reduce logistics costs by up to 50 percent, according to the transport ministry.

The overhaul, which would be funded under a public-private partnership, or PPP model, would boost shipment capacity of cargoes such as sand, methanol, piping and building materials from 700,000 tonnes to 4.1 million tonnes per year by 2030.

The high cost of financing the project, however, may deter potential investors.

“I think it is a very good idea, but they need private investments, and I don’t know where that is going to come from,” said Muriel Maurizzio, a broker for Buenos Aires-based shipping agency Oceanway.

Capturing Breakbulk Potential

Still, the exponential growth at Vaca Muerta and the gradual upgrade of supporting infrastructure is providing plenty of opportunities for breakbulk and project cargo.

The demand for new rigs, piping and other heavy-lift equipment has driven expansion projects throughout the country’s southern regions, including ports such as Bahia Blanca.

“These were ports that were mainly used for grains and some spot project cargoes, but really not that much,” Maurizzio said. “Between Vaca Muerta and the wind projects we have in the south, the port (at Bahia Blanca) has had a huge increase and a lot of investments.”

Bahia Blanca’s public berth is the main dropping point for big bags of sand and ceramic proppants used for hydraulic fracturing, or fracking, the controversial technique that employs a high-pressure mix of water, sand and chemicals to unlock unconventional oil and gas.

However, importing fracking sands, either by breakbulk or container, can be costly, so producers have started looking closer to home to secure their supplies.

Earlier this year, Tecpetrol struck a deal with the local unit of Belgium dredger Jan de Nul to buy some 70,000 tonnes of sand scooped up from Argentina’s Parana River. YPF, meanwhile, has built a fracking sands plant in southern Chubut province that has significantly reduced its exploration costs.

Potential opportunities for breakbulk are also surfacing further downstream.

Natural gas from Vaca Muerta is creating fresh supplies of ethane, propane and other natural gas liquid feedstocks that would support proposed expansion projects at Bahia Blanca’s petrochemical plants.

Economic Woes Cannot be Ignored

Argentina’s fragile economy, which shrunk by 5.8 percent in the first quarter, has so far failed to dent investor appetite in Vaca Muerta. Even so, with inflation hovering around 60 percent, and the peso losing value, the government has been increasing interest rates to more than 70 percent, creating headaches for producers seeking to raise capital.

To tackle its financial crisis, Argentina was forced last year to seek a US$57.4 billion bailout package from the International Monetary Fund, or IMF.

As part of a pledge to slash spending and reduce debt, Macri pulled back on a subsidy program for new natural gas projects at Vaca Muerta – operators had been guaranteed a minimum price of US$7.50 per million British thermal units, or Btu, for shale gas with the market price at about US$4.50 – a move that has further rotated drilling efforts from gas to oil.

The cut in subsidies shook producers, and sparked a legal battle between the government and Tecpetrol, which had been forced to lay off workers and reduce output amid higher operating costs.

To date, 65 percent of investments in Vaca Muerta have come from government or government-affiliated entities, according to a report by the U.S.-based Institute for Energy Economics and Financial Analysis.

The longer-term impact of the subsidy cut remains to be seen, although some investors would rather see them scrapped.

“Enterprise needs to be justified by natural fundamentals,” said David Tawil, president of Maglan Capital, the largest shareholder in Madalena Energy, which operates at Vaca Muerta.

“I don’t know whether the government will bring back subsidies, and, if so, to what level. However, I would encourage companies to think about achieving profitability without any reliance on subsidies. In addition, reaching profitability without subsidies would be easier to achieve with reduced labor costs and red tape, lower provincial royalties and better infrastructure.”

Popularity Contest

Macri himself is in a dogfight to secure a second presidential term after he was trounced by center-left challenger Alberto Fernandez in a primary vote on Aug. 11. Fernandez is now odds-on favorite to head a new government.

The incumbent’s popularity with voters has plummeted in recent months amid his government’s painful austerity program that has included cuts to education, health and other public services. For many Argentinians on the breadline, Macri’s free-market reforms have failed.

The result of the primaries – a taster perhaps of what can be expected in a first round of voting of Oct. 27 – sent Argentina’s currency and stocks plummeting further as investors panicked at the prospect of a return to populism and protectionism.

Macri’s best bet now is to force a second-round runoff on Nov. 24.

Fernandez, whose running mate is former President Cristina Fernandez de Kirchner, has pledged to re-evaluate many of Macri’s economic policies, including the bailout with the IMF and a recent free trade deal between Mercosur and the EU.

Crucially, though, he has backed the development of Vaca Muerta, and acknowledged its critical role in any plan to overturn Argentina’s economic woes.

“I think that most Argentina energy executives and investors are hopeful that the energy industry, particularly Vaca Muerta exploration and development, will continue to be clearly supported by the government into 2020 and beyond, regardless of which political party succeeds in the elections,” Maglan Capital’s Tawil said.

Colombia-based Simon West is a freelance journalist specializing in energy and biofuels news and market movements in the Americas.

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